Changes At the Top

BY MAVIS SCANLON

In February of 2002, shortly after AT&T agreed to sell its cable unit to Comcast for $72 billion, Comcast sparked quite a ruckus in corporate governance circles when certain details of its merger plans became known. To no one's surprise, the company intended to install a new board of directors once the deal closed: five from Comcast, five from AT&T and two unaffiliated directors. But it also wanted members to hold on to their seats until the company's 2005 annual meeting, meaning board members would be exempt from annual reelection. There's more. According to the merger plan, a super-majority of 75% of board votes would be needed before either president and CEO Brian Roberts or incoming chairman Michael Armstrong could be removed from their positions, a provision the companies said would last for six years after the 2004 annual meeting.

The companies defended these highly unusual arrangements, arguing they would ensure continuity and stability in the newly merged entity. Longer board terms, the thinking went, would allow members to more fully focus their attention on the task at hand, giving the merger a far greater chance at succeeding.

But investors didn't see it that way. They felt their rights as shareholders were being stripped away while Armstrong, the former AT&T chairman and CEO, was handed a sweetheart deal for selling AT&T Broadband for far less than he had paid to acquire it.

One group of shareholders thought the director tenure provisions so egregious they sued in federal court to try and block them. (The suit was later dismissed; the plaintiffs appealed.) But it wasn't only the board provisions that were criticized. The companies also sought to allow shareholders a single vote on both the merger itself as well as the changes in the new company's charter. It didn't help that, just weeks later, Adelphia Communications began unraveling in a corporate accounting scandal that led to its bankruptcy later that year.

By the end of April of that year, Comcast had backed down from its plan ? but only a little. Board members would stand for reelection in 2004 rather than 2005, and shareholders could call special meetings after that. But the requirement that Armstrong and Roberts could only be removed with a 75% vote by the board stood, ensuring their positions through the 2010 annual meeting.

The new provisions were only a mild improvement in the eyes of some investors. Last summer, Peg O'Hara, a managing director of the Council of Institutional Investors, told Denver's Rocky Mountain News that her firm ?still wasn't very happy with the corporate governance? of the new company. Had Comcast really listened to its shareholders, O'Hara maintained, it would have made more sweeping changes.

Says Beth Young, a senior research associate at shareholder advocacy and education group the Corporate Library, ?The idea that you need a super-majority of the board is so unusual.?

Comcast's stock hasn't suffered by what some perceive as less than stellar corporate governance. Rather, investors seem heartened by the progress the company has made in integrating its big acquisition of AT&T Broadband. Comcast shares are up around 77% from an October low of about $18. In the same period, the Kagan Cable MSO Index is up about 88%.

Still, the Comcast-AT&T incident underscores the heightened degree of attention that's being paid to company/board interactions. Since Comcast pulled back its efforts to keep tight control over its board, corporate governance, or lack thereof, has grown exponentially on investor's minds. Boards themselves are taking ? or being forced to take ? a more active role in governing companies and rooting out corruption. Since early April, shareholders at GlaxoSmithKline rejected pay packages for their CEO and other top executives; shareholders at newspaper publisher Hollinger International asked the board to investigate millions of dollars the company paid to its CEO; and the chairman and CEO of American Airlines resigned amid an unfolding scandal over corporate bonuses. Even the New York Stock Exchange is reviewing its own corporate governance practices and the role its 12 board members play.

The astonishing stock market losses that followed the flameouts of Enron, WorldCom, Tyco, Global Crossing and Adelphia ? and the stunning revelations of management misdeeds ? led to last summer's passage of the Sarbanes-Oxley Act. Enacted to instill stronger financial oversight of public companies, Sarbanes-Oxley established a five-member accounting oversight board that reports to the Securities and Exchange Commission, required CEOs and CFOs to certify company financials and enact internal audit controls, and strengthened independence requirements for board members, especially for those that serve on a company's audit committee.

In addition to new regulations under Sarbanes-Oxley, shareholder advocates have also championed ongoing training for directors and have urged boards to engage in robust discussion and debate and to meet without management present.

These changes have not gone unnoticed. In April, CALPERS, the big California pension fund, sent a two-page questionnaire to the thousand-plus companies it holds stakes in asking detailed questions about the function of audit committees in the wake of Sarbanes-Oxley.

Cable and media companies have heeded the warning from Adelphia's bankruptcy and subsequent accounting investigations at Charter Communications and AOL Time Warner. Shareholders at Viacom in May approved a smaller board with more independent directors.

According to a survey by consulting firm Hewitt Associates, 60% of U.S. companies made some change to their board structure last year, with 36% increasing compensation. In the cable industry, board compensation leapt last year, and MSOs paid more for audit services as well.

With few exceptions, cable operators in 2002 boosted the fees paid to directors. At Comcast, which has more than doubled in size, compensation to directors jumped 43%, to $50,000 from $35,000, with a substantial increase for the chairman of the audit committee.

?The directors are doing a lot more work,? says John Alchin, EVP and treasurer of Comcast. ?There is no question but that [the new regulations] have put a significant burden of additional work on board members and specifically committee members, and?certainly all of the board members of our company take that responsibility very seriously.? Comcast also enlarged its audit committee to six members from five.

Compensation for board members at Cablevision and Cox jumped as well. Cablevision boosted its director fees to $50,000 from $30,000, while Cox boosted the fees paid to independent directors to $75,000 from $30,000, with half paid in cash and half in stock. Cox board members hadn't seen an increase in their fees since 1995, when the company was far smaller, says spokesman Bobby Amirshahi.

?I think there is more being expected of boards,? Amirshahi notes. ?More time is being asked to be given.?

Adds Cox controller Susan Ballance, ?We want our audit committee members to be as involved as possible. They should be compensated for that.?

Cablevision concurs. ?Directors are being called on more than ever before to execute appropriate and diligent oversight, requiring more time and effort,? says spokeswoman Kim Kerns. ?Like many other corporations, Cablevision believes it is appropriate to ensure that compensation recognizes this new level of activity.?

Last year also showed an increase in the number of times audit committees met. Cablevision's audit committee, which met only five times in 2001, convened 15 times last year. Comcast's audit committee met 11 times before the merger closed in November, and once after. Cox's committee meetings jumped to seven formal meetings and two conference calls, from two formal meetings and four conference calls in 2001. According to Ballance, the company wanted to ensure that committee members understood all the ins and outs of a specific transaction between the parent company, Cox Enterprises, and a subsidiary, Cox Interactive Media.

Audit committees are crucial to maintaining effective and reliable financial reporting. As the SEC stated in a recent ruling: ?Vigilant and informed oversight by a strong, effective and independent audit committee could help to counterbalance pressures to misreport results and impose increased discipline on the process of preparing financial information. Improved oversight may help detect fraudulent financial reporting earlier and perhaps thus deter it or minimize its effects.?

After Adelphia's scandal broke and the subsequent investigation into accounting policies at Charter Communications, cable industry accounting came under intense scrutiny. Distrust grew to such a level that several MSOs hosted conference calls with analysts and investors to explain their own accounting policies. Although these policies were invariably fully disclosed in each MSO's annual report, it became clear that reporting standards across the industry were not standardized.

That led the National Cable & Telecommunications Association to an unprecedented effort to come up with consistent definitions and policies across the industry, an effort unrelated to Sarbanes-Oxley.

?[When] we looked at the way we reported [each company] was interpreting things a little bit differently,? says Insight Communications CEO Michael Willner, who as chairman of the NCTA was credited with guiding the effort. ?We said, there are certain areas that the Street really wants to understand.? Capital expenditures was among the biggest. ?We made the decision to define [those things] on a consistent basis. I would contend that each company was transparent, but what wasn't clear was how we were different from each other.?

Now, in addition to that effort, operators are making efforts to conform to the new rules under Sarbanes-Oxley. New rules not only call for audit committee members to be independent but for at least one of them to be a financial expert, as defined by the SEC, and if not, to explain why.

For at least the past two years, Cablevision has included a note in its proxy statement to shareholders explaining that its audit committee members Victor Oristano, Richard Hochman, a former managing director of PaineWebber, and Vincent Tese, a director of Bear Stearns, ?are not professionally engaged in the practice of auditing or accounting and are not experts in the field of accounting or auditing, including in respect of auditor independence?.? In short, it is telling shareholders that its audit committee members do not have the expertise to fully assess whether management has maintained the appropriate accounting principles.

Kerns at Cablevision says the company's audit committee meets the independence and financial literacy requirements of the New York Stock Exchange.

While audit committee members don't necessarily need to be auditing or accounting pros, says Young of the Corporate Library, ?they do need to know where the bodies are buried.? They must be able to assess the relationship between the company's internal and outside auditors, she continued, and how to ask probing questions. In other words, they have to educate themselves going in.

These days, the more accounting or auditing experience a board member has, the better. Cablevision's unusual statement regarding its audit committee raises some eyebrows. ?If I were a shareholder, that would trouble me,? says Gavin Anderson, the CEO of GovernanceMetrics, a corporate governance ratings firm that examines companies' governance practices and rates them using 600 different metrics.

By comparison, the disclosures in Insight's proxy statement illustrate a different approach. Not only does Insight include the charter of the audit committee in its proxy statement, something that all companies will be required to do under Sarbanes-Oxley, it tells investors that each of the members of its audit committee, according to SEC definitions, is a finance expert. Insight is also one of the only cable companies whose audit committee meetings didn't jump in number last year, holding at four. ?I think a public company is a public company,? says Willner. ?Whether closely held or not, you either do what's right or you don't.?

Before Sarbanes-Oxley passed, Willner himself headed up the board's compensation committee, a practice now frowned upon. The company has since taken all insiders off committees that require independence, ?in order to live up to the letter and spirit of the law,? he says.

Independence in the boardroom can be a thorny issue for the cable industry, which includes several companies that are controlled by a founding family, or a controlling shareholder. Under the new regulations, companies with a shareholder that controls the majority of voting stock ? that list includes Cox, Charter and Cablevision ? will likely be exempt from the independence guidelines.

Still, MSOs understand shareholders' desire for more board independence. In adding three new members to its board in the past year, Cablevision has upped the number of independent directors and addressed critics who say the company has shown a lack of regard for shareholders' wishes. Before adding the new directors, the Dolan family or Cablevision employees held eight of 12 board seats; now they hold eight of 14 seats.

Comcast may be in a touchy situation when the new rules on board independence take effect. The head of its audit committee, J. Michael Cook, was previously the chairman and CEO of Deloitte & Touche, Comcast's independent auditor. The new rules require that committee members have no relationship with a company that does business with the listed company for five years prior to service as a board member. Ironically, this accounting pro may be forced to step off Comcast's audit committee, unless the company gets a waiver.

Likewise, Brian Roberts, who serves as head of the board's nominating committee, may also be forced off that committee when the new independence rules take effect. The company spells out very clearly in its proxy the steps to be taken if Roberts is ineligible to serve on the committee.

?Corporate governance is as much about culture as it is about process,? says Anderson of GovernanceMetrics. ?You could come up with all kinds of policies and charters and so forth. But if the culture of a company is not to have a strong sense of integrity and responsiveness to shareholders then that is going to affect governance.?

In January, Cox had the chance to boost the percentage of independent directors on its board when former Cox Enterprises COO David Easterly stepped down. Instead, Easterly was replaced with G. Dennis Berry, who in 2000 was named president and COO of Cox's parent company. ?We felt we were already very strongly aligned with the interest of public stockholders,? explains Cox's Amirshahi. ?It was important for our largest stockholders to ensure their interests are being met with adequate representation of their shares on the board.?

Amirshahi adds that when the current slate of directors stood for reelection on May 15, they were elected with 95.6% of the votes. Cox Enterprises owns 74% of Cox Communications, and so the majority of the votes came from the parent company. But the fact that nearly all the remaining public shareholders voted for the directors underscores their confidence in the current management and board, Amirshahi notes.

Aryeh Bourkoff, an analyst following the cable and satellite industries at UBS Warburg, says that while he is ?an absolute advocate? of having independent board members, ?it's not the only criteria? by which to judge them. ?I have to make a judgment call on the accountability and credibility of the board members that are not independent,? Bourkoff says.

In the cable business Adelphia was perhaps the worst offender when it came to board independence. The disregard shown by John Rigas and his three sons, who were all senior executives and board members, for shareholders is famous. Not only did Adelphia's board not have a nominating committee ? a trait it shares with Cox, Charter and Cablevision ? Tim Rigas, the former CFO, sat on the audit committee for years, until forced off by the Nasdaq in early 2001.

Adelphia is now trying to regain credibility. One of the first new board members to join the company after the Rigases stepped down last year was Yale Law School dean Anthony Kronman, and the company recently named onetime Federal Communications Commission commissioner Susan Ness and former Time Warner Inc. executive Philip Lochner to the board. The four members of the board that remained from the Rigas era stepped down last week to make room for four new independent directors.

A company mission statement developed by Adelphia's new management team states in part that Adelphia ?will develop a reputation as a company with outstanding corporate governance.?

Charter, which is still being investigated by the SEC, has instituted a rigorous corporate compliance program in the wake of Sarbanes-Oxley. Curt Shaw, SVP and general counsel, was named corporate compliance officer; the company has established a compliance hotline and website and an extensive employees code of conduct, which the company included in its recently filed 10K. Its proxy statement for 2003 should be filed shortly, according to spokesman Dave Andersen.

In an e-mail message, Andersen stated, ?Charter management at every level of this company is fully committed to embracing all dimensions of this compliance program?.More importantly, management is committed to seeing that these standards are incorporated into our day-to-day activities, decisions and overall manner of doing business.?